Capital Structure and Firm Value - Debt and Equity
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Describe the advice that you would give to the client for raising business capital using both debt and equity options in today's economy. Outlined the major advantages and disadvantages of each option.
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Solution Summary
A discussion of the pros and cons of raising both debt and equity funding within a business for purposes of long term investing.
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The first thing to recognize is that the combination of debt and equity represent the total capitalization of the firm. As such, it also represents a "book value" of the firm which translates to the potential earning power and growth potential for the firm. Through the use of both forms of funding, the firm creates the opportunity for being n the best possible position to take advantage of future investment possibilities.
Raising debt and equity have similarities:
* both represent the need for a comprehensive business plan outlining how, when, where, and why the funding will be utilized --- in effect, what will be the benefits which will accrue to the firm as the result of obtaining this funding. And over what period of time will these benefits accrue?
* both represent the best good faith operations which the company can provide via leadership, investing, and transparency in order to afford the ultimate investor the rewards which they EXPECT.
* both have advantages and disadvantages for the risk levels of operating within the firm.
Debt is a fixed contract outlining the terms of the offering. Usually bonds are sold in $1000 increments, and have a fixed % of interest which will be paid (also known as the coupon rate) over a specific period of time (called the maturity period). As such, it represents an ANNUITY to the investor --- this takes the ...
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